Loyola University Chicago School of Law, JD 2023
While our world economy is driven by commerce, over the last few decades, it has become apparent that along with driving the economy, commerce is driving our planet into a state of emergency. According to the UN Secretary-General, “the climate emergency is a race we are losing, but it is a race we can win.” World-wide effects from harmful emissions range from rising temperatures and sea levels to drastic weather events, and the world is calling on political leaders, corporations, and governments to do something. But a major player in this game often overlooked is perhaps the biggest player of all – the world’s leading financial lending institutions and banks. These entities are the root of commerce. While operationally banks and financial institutions are not the highest emitters, tracing lending patterns reveals banks finance the leaders in harmful emissions. In fact, financed emissions by lending institutions may be anywhere from one hundred to a thousand times. Whereas, financed emissions are emissions that banks secondarily contribute to by lending to companies who directly emit harmful gases, versus operational emissions which are emissions that banks directly cause from everyday operation.
“Net Zero” alliances of financial institutions
In April of 2021, an alliance was formed by financial institutions through the efforts of UN leaders and climate activists called the Glasgow Financial Alliance for Net Zero (GFANZ). GFANZ has since become the largest group of financial institutions targeting a net zero emission initiative. As part of this same initiative, sector specific coalitions have come about including the Net-Zero Banking Alliance (NZBA) (made up 122 banks in forty-one countries), representing 40% of the global banking assets. Other coalitions include those for institutional investors, asset managers, financial service providers, consultants, and insurers. NZBA is the largest of these sector specific alliances, having a holding of $66 trillion in assets of the $130 trillion represented by GFANZ. Some of NZBA’s most notable members include Goldman Sachs, JP Morgan Chase, and Bank of America.
What is Net Zero and what does it address?
Together, these initiatives have driven member financial institutions to make a public commitment to reach net zero emissions by 2050. For NZBA, all members sign a Commitment Statement aiming to transition assets from portfolios of high emitters of harmful gases, like fossil fuels, to “green” investments. Since 2015, sixty of the world’s largest banks have directed at least $3.8 trillion in financing towards harmful fossil fuel companies. The industries with the highest emissions entail some of the largest capital financing, which is why this is such an important initiative for lenders and banks.
While banks may take internal steps to target net zero goals, such as environmental, social, and governance investments, or internal compliance policies and procedures, alliances such as GFANZ drive change on an industry wide level and prepare financial institutions for increasing legislation and regulation. In fact, this year the Federal Deposit Insurance Corporation released a guide for how large banks should aim to develop and plan for climate change risks, and banking regulators have followed, insinuating financial institution compliance departments should be proactive.
The Net Zero commitment
Members of Net Zero alliances commit to individual operational reduction of emissions, and more importantly, agree to attain net zero emissions in investments and lending by 2050. Every five years, member institutions of NZBA are expected to set targets with the first being a shared target of 50% reduction by 2030. The Commitment Statement these firms sign to be members utilizes broad terms including that banks will “take into account the best available scientific knowledge,” use “decarbonization scenarios” from worthy sources, seek to hit emission reduction targets and prioritize green investments, and rely on technologies that assess net emission reductions.
Criticisms of Net Zero initiatives and alliances
While the net zero initiative is early in its life, concerns dubbed as “greenwashing” have arisen over the legitimacy of GFANZ’ goals and whether membership may be used to cover up unsustainable investments. From 2016 to 2020, thirty-nine NZBA signatories made up part of the sixty largest banks responsible for $3.1 trillion in fossil fuel financing, 82% of total financing in that sector. Other criticism includes questions regarding a lack of clarity on how compliance with the commitments will be measured and what is at stake if a member does not comply. Given the nature of the industry, there is substantial doubt of firms being self-compliant. Under the current model NZBA firms use to analyze emissions reduction targets, firms may continue to finance fossil fuel projects and still hit targets. Therefore, it is important for banks to determine a benchmark, and since emissions are hard to analyze in this context, this has proven to be an ambiguous requirement.
How the UN is responding to greenwashing claims
In response to these criticisms, on November 8, 2022, the UN released the “UN High-Level Expert Group on the Net-Zero Emissions Commitments of Non-State Entities’ report” underlining a “roadmap to prevent net zero from being undermined by false claims, ambiguity and ‘greenwash”. This report calls on member firms to be more urgent in setting goals, recommends conditioning loans and investments on a criterion of standards for high emitting clients, and highlights how current investments are “entirely incompatible” with net zero goals. Notably, in this report, the UN asserts that financial institutions should publicly report their progress for net zero to target dishonest reporting.
The reality of Net Zero initiatives targeting financed emissions
Resultingly, the future of regulation in this area may increase and compliance and legal departments of financial institutions must be prepared to answer where they finance unsustainable business practices. For member firms of GFANZ and NZBA, the UN is calling for strengthened terms and compliance; it wants to see firms are not merely greenwashing and falsifying, but rather taking real initiative to reduce financed emissions. The financial sector is being called on to initiate a change, but it is readily apparent for many firms, a great deal of question remains as to how that change will in fact occur.